There are staggering variations in the amounts local authorities pay for care home residents around the country.
Photograph: Alamy

The ghost of Southern Cross hangs over Britain’s care home industry. Four years ago the country’s largest care home group collapsed, sparking months of uncertainty and worry for its 31,000 residents and their families, until Southern Cross’s rivals stepped forward to agree rescue deals for its 750 homes.

Now, however, the industry could be rewarded by facing an even bigger crisis. While it was a set of circumstances unique to Southern Cross that laid it low in 2011 – particularly high rents for its properties and the costs of a debt mountain left by its private equity owners – today care homes across the country are feeling the squeeze.

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Four Seasons, which has more than 22,000 beds spread among 470 homes nationwide, is at the forefront of the new crisis. The company is owned by private equity group Terra Firma, the organisation led by financier Guy Hands that has, at various times, controlled companies as diverse as Méridien hotels, Odeon cinemas and record label EMI. It is losing millions of pounds a year and struggling under £500m of debt. Four Seasons needs to make a £26m interest payment in December to satisfy creditors who could put it into administration.

Terra Firma insists it will be able to make the payment, but the private equity group, trade unions, and local authorities all agree this is only the start of the problems for the care home industry.

Justin Bowden, national officer at the GMB union, which represents thousands of care home employees, said: “You are looking potentially at several Southern Crosses in the next 12 months if something drastic is not done.”

British financier Guy Hands has controlled EMI, Odeon cinemas and Meridien hotels as well as care home provider Four Seasons. Photograph: Brendan Mcdermid/Reuters

Martin Green, chief executive of Care England, the body that represents independent care providers, warned that the crisis in the sector would dwarf the problems in the steel industry. “We are looking at Redcar happening twice a month if care homes go down,” he said.

“These people can only be looked after in care homes and hospitals. If Jeremy Hunt thinks he has a problem with bed blocking now, it is nothing on what it is going to be like if these care homes start to close. Hospitals won’t be able to do elective care because they will be full of old people.”

The problems for care homes are rooted in the gap between the costs of care and the amounts local authorities are paying for residents. There are staggering variations in fees across the country, ranging from £350 a week to as high as £750, according to consumer watchdog Which?

The Local Government Association itself estimates that there will be a £2.9bn annual funding gap in social care by the end of the decade. This gap will widen with the introduction of the national living wage next April, which will add another £1bn to the costs of care homes between now and 2020.

The shortfall is a big problem for the industry, because the majority of residents in care homes are at least partly financed by the state. According to the benchmark LaingBuisson Care of Older People market report, 37% of care home residents have their places wholly paid for by local authorities. Another 12% pay extra on top of their local authority funding, and 10% are funded by the NHS. An estimated 41% are private residents who pay for themselves.

There are more than 430,000 elderly people living in care homes in the UK, and the sector employs 1.4 million people. However, between October 2014 and March 2015, the number of care home places in the UK fell for the first time. A total of 3,000 beds were lost as closures exceeded new openings.

Chai Patel, chairman of HC-One, which rescued almost 250 care homes from Southern Cross, warned that the industry faces a “perfect storm” and needs “significant help”. The healthcare tycoon said that industry research, which has been handed to the government, shows that half of the country’s care homes are facing collapse.

“We reckon that 50% of homes are non-viable if you allow for capital expenditure and the rent on property,” he said. “Once the living wage comes in, 50% of beds will go bust.”

Beside the prospect of closures, another looming problem, Patel warned, is that a two-tier system is developing in Britain’s care homes. A number of groups – Barchester and Care UK among them – are increasingly focusing on private residents who pay their own fees rather than using state backing. At Care UK, for example, the number of self-funding residents has risen from 26% to 32% in a year.

These private homes are more profitable and account for most of the new investment, leaving state-funded residents in homes whose owners may not be able to afford refurbishments.

“My personal point of view is that it is wrong,” Patel said. “Just because you are poor and old doesn’t mean you should get a different quality of care. For public policy to support that is iniquitous and just not right.”

The charity Age UK claims there are examples of care homes being refurbished specifically so they can target private rather than local authority patients, while some are charging private residents more to make up for the shortfall with state-backed residents. The fees paid by local authorities are estimated to have fallen by more than 5% in real terms over the past five years.

Richard Bowden, managing director of Bupa, accuses successive governments of ignoring the effect of falling fees. There have been reports that Bupa, one of the country’s largest private healthcare providers, has put 200 of its 280 care homes up for sale amid concern about the health of the sector, but the company insists this is “market speculation”.

Bowden said: “We and others have been saying for some years that the fee levels paid by most local councils are insufficient and well below the true cost of providing care for vulnerable older people.”

The perilous state of care homes is of particular concern for Britain because of its ageing population. According to the Office of National Statistics, the number of people aged over 65 will rise by more than 40% in the next 17 years. By 2040 almost one in four people will be over 65.

The industry is pushing George Osborne to use the November comprehensive spending review to provide much-needed support. Care homes want the Treasury to provide local authorities with the funding to increase the fees they pay and cover the additional staff costs from the national living wage.

Izzi Seccombe, community wellbeing spokesman for the Local Government Association, said: “Councils work closely with care providers to ensure there is a diverse and quality market that gives people the right choice of care options. But, despite their best efforts, many councils have had to squeeze what they pay care providers.

“We need to see a change to the current funding system which, over the past five years, has seen an increase in funding for the NHS but a decrease in funding for social care. This threatens to leave councils struggling to commission the essential support that keeps people out of hospital and living healthier and happier lives in their communities.”

A spokesman for the Department of Health confirmed that the funding of social care is being examined as part of the spending review but insisted measures had already been taken to ease the pressure on the industry. It is pushing councils to develop a set of commissioning standards to formalise the process by which local authorities approve and fund the admission of an elderly patient to a care home. The government has also committed £5.3bn to a Better Care Fund designed to make the NHS and councils work more closely together.

However, a senior industry source said this must only be the start and added that the NHS spends as much as £25bn a year on holding elderly patients in hospital as they wait for the local authority to arrange and approve a care home. Other concerns include end-of-work permits for foreign nurses.

If these funds can be reallocated to care homes, perhaps Southern Cross will remain a one-off, rather than a precursor to an emergency in social care.

Is the duty of care to investors or the vulnerable residents?

Care homes and private equity can be a toxic mix. When Southern Cross collapsed four years ago, its previous owner, Blackstone, was accused of asset stripping – making money by selling off properties and leaving the group burdened with debts and a growing rent bill – although Blackstone insisted it had been a responsible steward.

In 2012, another private equity firm, Terra Firma, paid £825m for Four Seasons, which is at the forefront of the new crisis facing the care home industry. Terra Firma was founded by self-imposed tax exile Guy Hands, and Four Seasons was his first major acquisition after record label EMI was seized by Citigroup, its main creditor, following a bruising legal battle. Hands is seeking more than £2bn in damages from Citi, with a trial scheduled for next year in the UK.

Four Seasons Health Care is a traditional care homes business, and is under growing pressure. Local authorities are reducing their contributions to care, and staff costs are rising as shortages force the companies to turn to expensive agency staff.

More than 60% of Four Seasons residents are funded by local authorities, a higher proportion than for some of its rivals.

Any profit Four Seasons makes is wiped out by maintenance costs and annual interest of £50m on its £500m of debt. It reported a £25m pre-tax loss in the second quarter, with credit rating agency Moody’s downgrading its debt to junk status.

The man with day-to-day control of Terra Firma’s businesses is former Sainsbury’s boss Justin King, who is overseeing Four Seasons as well as Odeon & UCI Cinemas Group and Wyevale garden centres. Hands, who with wife Julia is estimated to be worth £250m, is focusing on winning the EMI case, restoring his reputation and potentially launching new funds.